Solar Verticals and “Balance of System” Valuations

Garvin Jabusch

Tom Konrad has kindly provided an opportunity for me to contribute a
response to his recent piece “Inverter
Stocks: A Value BOS Play on Solar.” I’m grateful for the
opportunity because it gives me the chance to discuss these stocks
and along the way to clear up some misconceptions it seems may exist
regarding Green Alpha’s portfolios
and our vision of the next
economy.

Tom wrote, for example, that “Garvin... has been making the case
that the solar
sell
off is irrational on this blog since
June, but his consistent bullish stance on solar has made me
nervous of his recently disclosed solar holdings in the Sierra Club
Green Alpha portfolio CSIQ,
FSLR,
JKS,
LDK,
WFR,
and YGE.”
It’s true that in various posts I have disclosed that Green Alpha ®
Advisors is long all of these positions, and we are. However,
when I disclose that "Green Alpha Advisors is long" a given stock, I
mean to imply we hold it as a firm, across all our various
portfolios, not solely in our Sierra Club Green Alpha Portfolio
(SCGA). And while we in aggregate do hold all the solar names Tom
listed, the SCGA in fact contains only two of them, and in
composition is actually just a shade over 12% invested in solar
manufacturers.

Our primary goal with our portfolios is to provide investors a well
diversified basket of different technologies and approaches
addressing civilization's emerging concerns around warming,
constrained resources, and growing populations and affluence.
Providers of these solutions exist all across economies in sectors
from water to materials to green building to, yes, renewable energy.
Here's the formal SCGA sector breakdown:

Industry

Sector

6/30/11 Weight

Energy

Solar

12.23%

Energy Storage

1.16%

Manufactured Materials

Advanced Materials

6.37%

Services

Raw Data & Analysis

10.03%

Education

3.94%

Infrastructure

Networks

3.36%

Utility Grid

5.48%

Products

Components

16.15%

Equipment

7.42%

Machinery

15.39%

Consumer Goods

13.16%

Cash

5.31%

Totals

100.00%

Tom’s conclusion that the SCGA may have been concentrated in solar
is certainly understandable; my holdings disclosures have not been
portfolio specific and I have been writing
a lotabout
solar recently, to the point where it could appear that I
don’t think about much else! As the allocation chart above shows,
though, we believe in and practice a diversified form of green
investing. We invest this way because we believe that in the next
economy, all sectors and industries will need to be represented, so
our investment approach is to select diverse companies that already
work in our next economy models.

So I was a little concerned when Tom’s conclusion that the SCGA was
essentially a solar portfolio led him to suggest that purchasing a
solar-themed ETF would be simpler, since that advice could have the
unintended consequence of driving folks from a diversified,
well-balanced portfolio into a single solar silo, which of course
would tend to be much more volatile. If your investment strategy is
to hold a large basket of solar stocks, then in fact I agree with
Tom, a solar ETF may be more efficient and inexpensive. But for
those with a more broad goal of investing in green economy solutions
across industries, a Green Alpha portfolio would be more
appropriate.

[TK Note: My thought was actually
that I'd prefer to hold a solar ETF to a basket of six solar
stocks in order to gain exposure to solar in a larger
portfolio. But if I did not make that clear to Garvin, I'm
sure I did not make it clear to other readers as well. I
agree that a diversified portfolio is far superior to a focus
on solar stocks.]

To address the topic of Tom’s piece directly, we do like power
conversion devices as an industry, and we do hold Satcon
Technology Corp. (SATC) and two other inverter makers, across
portfolios. On the risk side, we agree that inverters, while
critical, are not big value-add products and that manufacturers
could suffer from competition as a result of relatively low barriers
to entry. But the world will need more inverters (and lots of them),
so for us this segment of the renewables story is about scale, or
which firm is making these devices at lowest cost. The other key
risk, and here we again agree with Tom, is that China may decide to
add this piece to its repertoire and link together the entire
renewable energy chain in-country. But this risk may also provide
opportunity if the Chinese decide to make these firms available to
foreign investors via ADRs, as has occurred with many of their
renewable-related firms. I also see the possibility that the larger
solar PV manufacturers will buy or build inverter making divisions
in house, thus ensuring supply, prices, and some margin control,
making their value propositions that much better in the long run.
And acquired companies, of course, usually receive a premium above
spot.

With renewables of all kinds growing rapidly worldwide, there
clearly is a growing demand for components that can render useful
the electricity derived from them. And generally, we like
Tom’s “balance of system approach,” and we share it. With respect to
solar, we look for the bargains in companies all along the value
chain from raw polysilicon providers, to panel encapsulate makers,
to inverter makers (which are also used in stationary fuel cell
power systems, a la Bloom Box)
and others. We like SATC both because of its price competitiveness
and its preferred status among many utilities. SATC recently announced,
e.g., that they have provided over 100 MW of inverter to capacity to
California utilities, including 75% of all Southern California
Edison's inverter orders, more than any other provider.

With solar as a power source growing rapidly worldwide, it makes
sense to own the best companies along all verticals, including
inverters. But in my opinion, at this moment, the solar PV
manufacturers themselves represent the best overall value: of 14
comfortably profitable solar PV stocks we track very closely, nine
are trading for less than cash. In a word, they’re
‘oversold.’

In case you're curious, I still absolutely think solar valuations
are irrational. One of the two Sierra Club Green Alpha Portfolio
solar names, Canadian Solar (CSIQ),
is both profitable and growing, and, according to Thomson-Reuters,
it has $16.04 in cash per share on hand, yet is trading at $3.53, or
only 22% of cash. Effectively, that means one can buy that business
for nothing right now. A profitable, growing company, in the world's
fastest growing industry, that will provide a nearly 5-fold return
if it merely appreciates to cash? Yeah, I stand by my conviction
that it's crazy not to own that.